The G20 wants to stop climate change – but who on earth will pay for it?

As finance ministers meet in St Andrews, Sean O'Grady looks at prospects for progress

As if they hadn't got quite enough on their plates already, the finance ministers of the G20, meeting in St Andrews, have also set themselves the task of saving the planet. Strange, but true. Even the clever people at HM Treasury may be feeling the strain.

The Chancellor, Alistair Darling, was honest enough yesterday to admit that "heavy lifting" is needed to make progress on the climate change issue: "My message to my fellow finance ministers is there's a job of work to be done here. I don't think anyone seriously denies there's a problem here. Let's get on with it."

What they need to get on with is an agreement on "climate finance" – how much the developed world needs to give to the developing world to help them to deliver economic expansion without the same sort of pollution we inflicted on the earth during our industrial revolution. There is also a demand for funds to help nations where climate change has probably already gone too far to correct, and where it is threatening environments or their very existence. The case of the Maldives, threatened with being submerged completely by rising sea levels, is the most striking; the 150 million population of Bangladesh at risk from incessant flooding is the most important, and perplexing.

These talks come against a background of rising criticisms of the central mechanism chosen to transfer funds from the rich to the poor worlds: carbon trading. Last week a Friends of the Earth report warned that carbon trading could be developing into a speculative bubble, and that complex derivative instruments were being bundled and sold as mortgage-backed securities were in the housing bubble. The author, Sarah-Jayne Clifton, wrote: "Similarly complex instruments are already being used in the carbon markets. For example, offset aggregators are bundling small offset projects for buyers, increasingly the likelihood of similar challenges to accurate valuation of assets as the carbon markets grow." A case for the Bank of England, perhaps.

The idea this weekend is that the finance ministers, representing as they do some 90 per cent of global GDP, will make a powerful contribution to the UN Climate Change Conference in Copenhagen next month, helping those troubled discussions to come to something like an accord, and not ending up deadlocked like the Doha round of world trade talks, which have been dragging on since 2001.

Writing in The Independent yesterday, Mr Darling reflected the difficult atmosphere inside the conference rooms: "The barriers to agreement on climate finance remain substantial. Even if countries agree the levels of finance, few will want to hand over money if they lack confidence in the means of delivering it."

The immediate task facing Mr Darling and his colleagues is to agree how much money will be transferred from developed to developing nations. The sums are substantial, though not quite on the scale of the banking bailouts. British officials say that poorer countries will need at least £100bn a year by 2020 to cut emissions and adapt to climate change, of which about half would be public money, while the UN estimates go as high as £400bn.

There are at least three obstacles to agreement on this.

First, there is reluctance on the part of some nations to be tied down to specifics. The EU, for example, is not very specific about how much it is going to commit itself, merely saying that it will pay its "fair share", and the UK has only agreed to provide about £1bn a year as part of that Eu funding. The failure of the EU to give a lead on this is pretty disappointing to many activists. Japan, too, is said to be wary of concrete figures. Such vagueness obviously does little to make these financial targets stick.

Second, there are growing doubts about whether the money that is being transferred even now is being wisely used – "governance" issues. There are well-documented cases, from the Bolivian rainforest to Chinese fridge factories, of fraud and abuse of climate trading systems, the Clean Development Mechanism and public funds more generally. The issue here is often "additionality"; if a developing nation is given financial help to build, say, a wind farm, the question arises as to whether they would have built the wind farm in any case, or whether the money spent on that particular green project was the most efficient use of those scarce funds. It is a particularly acute case of the "free rider" problem.

Third is the effectiveness of the system of carbon trading itself. The principle is simple: nations and companies that pollute more than a given cap on carbon dioxide and other emissions have to buy "credits" from their cleaner counterparts who have seen the opportunity to reduce emissions to below their quota and can then sell the resulting credits on the European Climate Exchange in London. Thus carbon has a market price attached to it – incentives and penalties to send signals about energy use.

One obvious objection comes if the caps are too generous. And even if they are strict, if nations choose to pay a premium to pollute, then they are still polluting; the "externalities", the wider costs to the environment, are still not properly reflected in the price of carbon.

Second, the system is hardly universal. The US is now seeking to build its own parallel system of carbon trading, though with the aim that the carbon credits it creates can be used on other exchanges around the world – "fungibility", meaning that one currency is easily converted into another. Ironically it was the US that insisted on carbon trading as a condition for their signing up to Kyoto: otherwise a simpler international carbon tax or just strict quotas would have been the preferred mechanism, though both of those might have provoked much political resistance. Carbon trading does have the advantage of being remote from voters.

Whatever happens at St Andrews, there will be far-reaching consequences, for the economy and the environment. The experience of Doha and Kyoto suggests that the heavy lifting won't be finished off at St Andrews.

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